Buying properties that have been foreclosed upon can be very rewarding...and very risky.  That is true with all investments.  As John Breit, who used to be a top risk manager for Merrill Lynch, the investment firm, once stated, "If its profitable and seems riskless, its a business you don't understand."

 With buying foreclosed properties, the biggest risk comes from having a mortgage, just like other properties.  If you have a mortgage and cannot make the payments, you will lose the property (that is how it ends up in foreclosure).  Leverage is great when it works for an asset, as it increases the profits.  But, like anything in life, leverage can be the biggest liability for an investment.   “Any good investment sufficiently leveraged, can lead to ruin,” cautioned Ed Thorp, who is a noted hedge fund manager and blackjack player with a Ph.D. in Mathematics from UCLA. 

There can be no mortgage on any real estate in a retirement account, such as an Individual Retirement Account (IRA).  While that may seem to be a negative as it reduces the potential profits, it also serves as an effective risk management tool: without any debt, the property will not be lost.  Too much debt can also lead to unwanted actions in adverse market conditions, too.  That is why some of the best investors such as Warren Buffett and Bill Gross, billionaires who could easily borrow tens of billions, do not deploy much leverage. 

But passive investing in foreclosed properties through a retirement leads to greater properties due to the tax benefits.  If the foreclosed property is bought, fixed up, and then sold for a profit, all of the capital gains are tax free.  That can be more than 30% for some sales!

If the the foreclosed property is bought and then rented out, all of the income received is tax free.  As rents in the United States have increased about 5% annually, the foreclosed property provides a rising stream of tax free income.  At that rate of increase, the rent received will double in less than 15 years.  All of it will be tax free, too, when the property is part of an IRA or other retirement account.

Passive investing in foreclosure properties is very appealing, due to the potential capital gains and rental income.  That is why major investors such as hedge funds, private equity groups and others have bought up thousands of foreclosures across the United States.  These institutional investors have fixed up the properties and rented them out, betting that many families will choose to rent rather than own in the years ahead.  That is a very savvy way to profit from investing in foreclosed properties.

Flipping foreclosure properties can also be lucrative.  Jerry Cohen, President and Founder of EquityBuild, a real estate investment firm, reports a high annual return from flipping properties, many of which were foreclosures.  In the real estate business since 1984, Cohen has been a principal in more than two thousands real estate transactions.

No matter how you profit from investing in foreclosure properties, higher returns will be earned when done with funds from retirement accounts.  The capital gains will be tax free, as will be any rental income received.  Investing in foreclosure properties is risky, but that is mitigated with the rewards much higher when using a retirement account.